Diverging G3 Trends Dominate: USD Steady on US Data, JPY Stronger as BoJ Softens YCC, EUR Weaker on Doubtful September Rate Hike
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FX Daily: Diverging G3 trends dominate
Closing the week, we have the Japanese yen a little stronger as the BoJ softens up YCC control, the dollar is steady-to-stronger on good US activity data, and the euro is weaker as the ECB throws a September rate hike into doubt. After the BoJ press conference, today's highlight will be the US Employment Cost Index data. A soft number could hit the dollar.
USD: The ECI will be in focus today
The combination of some stronger US activity data and some independent euro weakness on the back of yesterday's ECB meeting has seen the trade-weighted DXY dollar push a little higher. DXY would be even higher were it not for the lower USD/JPY we have seen today on the back of the Bank of Japan's tweak to its Yield Curve Control (YCC) target.
Regarding the BoJ, we think the market is right to have taken USD/JPY a little lower after this surprise adjustment to how it manages its 10-year Japanese government bond (JGB) yield target. What has probably prevented USD/JPY from dropping harder are the new BoJ core CPI forecasts, where FY24 and FY25 CPI are still only forecast at 1.9% (April forecast 2.0%) and 1.6% (1.6%) respectively. This hardly provides a firm foundation to conclude that CPI will now sustainably run near 2.0%. Instead, the tweak to the YCC programme may reflect BoJ Governor Kazuo Ueda's preference to take baby steps away from the heavy control of the JGB market - i.e. maybe he's more of a free marketeer.
However, we do think the drop in USD/JPY might get some support from the dollar side today. Undoubtedly, US activity data has been holding up well, and based purely on the activity data alone one would argue that the Fed had the strongest case for another rate hike, yet Fed Chair Jerome Powell acknowledges that US monetary policy is already in restrictive territory and the focus is on disinflation.
On Wednesday, Powell said there would be important data prints before the September FOMC meeting – two CPI prints, two jobs reports and the Employment Cost Index (ECI). Well the second-quarter ECI figure is released today and is expected at 1.1% – a drop from 1.2% in the first quarter and a peak of 1.4% in the first quarter of 2022. My colleague James Knightley thinks the risks are skewed to a sub-consensus 1.0% reading today given the softer average hourly earnings and survey evidence both from the Fed's Beige Book as well as the NFIB data that the US labour market is coming better into balance.
A soft ECI number can wipe out the final 8bp that is priced for the US tightening cycle this year and will probably knock the dollar 0.5-1.0% lower. This would be a good story for risk assets, where both the Fed and seemingly the ECB would be closer to ending tightening cycles. If we are right with our call on the ECI, DXY could head back to yesterday's low near 100.50.
